Recent Market Declines: Another Great Recession Ahead?

The markets have been volatile. Very volatile. I'm watching the nightly news with Brian Williams and the headline "Markets In Turmoil" led the broadcast. NBC is even so kind to have a special program tonight at 8pm with the same title. Great.

I wrote the paragraph below to conclude my last Saturday morning post about the debt ceiling uncertainty going into the weekend. While I was right in interpreting the events that were transpiring, I certainly didn't think the market would sell off as much as it did. I doubt any honest person would say that they did either.
"What is most likely to move markets is how the likely compromise to the debt ceiling is perceived by the market. Markets will assimilate this new information to establish a new equilibrium price, based on the compromise's effects on the US and global economy near and longer term. For instance, severe spending restraints could represent a short-term reduction in demand that can slow economic growth. This could negatively impact equities and be a boon for bonds."

Don't confuse the debt ceiling with what's transpiring here. They're distinctly different. In my opinion, the market has over-reacted to the coming decrease of economic stimulus by the government, some ho-hum economic indicators, and resurfacing concern about European banks and sovereign debt.

The market is down slightly more than 10% from the recent peak. It may go down some more, who knows. But it's not another great recession like 2008 and 2009. In looking at the 10-year treasury note, it's less than 2.5%--similar to October 2008 levels. Think the bond market is concerned about the loss of a AAA rating? No way. Rates would be much higher. Economic slow down is the concern or perhaps more apt: the panic.

Markets will likely exhibit continued volatility and the economy and job outlook will likely be marginal at best. These problems will take a long time to work through. Meanwhile, real people living and working in the real economy need real, after-tax returns to make their financial plans work and live their lifestyles. And rates being earned on savings simply will not cut it for the vast majority.

So what to do now? Even though I'm espousing opinions above and consider the likely hood of economic scenarios and their impact on markets when making portfolio management decisions for clients, you simply cannot time this stuff. Look at the chart of monthly returns for the S&P 500 and Russell 2000 indices below. (Click on the image to enlarge it.)

Last May and June we had larger declines than what we've had recently. In fact May, June, and August of last year saw the Russell 2000 sell off by more than 7% each month. Then look at the positive returns that followed. Trying to time these ups and downs is like playing Russian Roulette.

What I said last week is repeated below.

Care will need to be taken in investing new cash or when transferring funds between accounts. Averaging into the market in this case is a sound approach. Rebalancing your account to move equity gains over the last year into bonds is also a sound move.

In general, now is not the time to sell unless you portfolio is poorly constructed, under-diversified, high cost, or you are taking too much risk to begin with. Now could be a good time to harvest tax losses if you have some, but be careful not to be out of the market in doing so.

Be prudent and rational. Work your plan and hang in there.

Gotta run for the 8pm special. Thanks NBC.

Kevin Kroskey, CFP, MBA

"If you don't read the newspaper, you're uninformed. If you read the newspaper, you're mis-informed."    Mark Twain
Mark Twain

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